By Thomas Cawston
Welfare is the biggest budget and the Coalition has rightly put it at the heart of the Spending Review. At £194 billion the welfare bill is almost twice as much as the cost of the NHS. As Tim blogged earlier today, new research by Reform documents the growth in this expenditure over the last decade and how to scale it back to the close the deficit. There are two ways to reduce welfare expenditure. The first is to reduce the costs of unemployment and social failure and the second is to cut the bulk of welfare spending that is directed at the middle classes. The Government’s welfare reform has focused on the former and proposed a series of policies to end welfare dependency.
Key to this agenda is Iain Duncan Smith’s plan for a complete reform of the benefit system to tackle disincentives to work. While the current benefit system is complex and creates poor incentives, Government reforms would combine existing benefits into a new single benefit. This would allow individuals to keep some of the income from out-of-work benefits when they enter employment, removing poverty traps and creating financial incentives to work. This would ensure that “work always pays”. But the plan to increase this “earnings disregard” is not a silver bullet, the proposals comes with significant trade-offs and leaves unanswered questions.
▪ How important are financial incentives? It has been assumed that people will respond to financial incentives to enter employment, but international evidence highlights that they are not everything. Also important are factors such as age, availability of childcare and other barriers to employment such as a history of worklessness.
▪ What kind of work pays? Creating an “earnings disregard” for the entry into work effectively means an incentive for low wage, low status and part-time employment. There is subsequently little or no incentive for individuals to increase their incomes or for second earners to enter the labour market, while more people will stay on in-work benefits.
▪ The costs of making it work? The universal credit comes with upfront costs that have been put at £2.7 billion. In addition, creating a benefit system that responds to constant changes in household income and need requires more administration and a sophisticated IT system. With the UK ’s poor record of national IT programmes and much cited examples of computer errors in calculating personal taxes, the universal credit is potentially unworkable.
▪ Creating incentives for the wrong people? The Government’s welfare reforms are focused on young people and the long-term unemployed. However fiscal consolidation will lead to growing unemployment among the public sector workforce, which is comprised of older workers and a higher proportion of women. This requires a different set of measures to support people back into work.
The Work Programme is a better idea and the Government hopes to have the programme up and running by next year. But international experience suggests that creating a competitive market for welfare-to-work financed by payment by results takes years to develop, requiring constant policy adjustment to align incentives for providers to deliver the best services. Also financing welfare-to-work services with savings to be made in the future creates a higher degree of risk for providers. This needs to look like an investment, not a gamble, and there is still significant uncertainty over how much it costs to help a long-term Incapacity Benefit claimant into work. Rather than rushing out the programme for next year a gradual introduction would offer a better opportunity to ensure the optimal alignment of incentives, the best way to manage financial risk and an effective market framework that supports competition.
Moving people out of benefits and into work takes time and is not easy. There is no simple solution to such a complex problem. Moreover, the Government’s flagship welfare reforms fail to address the true costs of the welfare state. Out of work benefits, such as the Jobseeker’s Allowance, Incapacity Benefit, Employment Support Allowance and Income Support, account for 10 per cent of welfare expenditure. High welfare spending today reflects middle class welfare and not the costs of unemployment. Ending this money-go-round, a system of universal benefits and higher taxes, is the real welfare reform agenda needed for this Parliament.
Thomas Cawston is a researcher at Reform